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Wednesday, March 31, 2010

Jack Delano Paper Trail September 1941"Feeding machine that grinds wood into pulp, one of the last stages in making paper at the Mississquoi Corporation mill, Sheldon Springs, Vermont."

Ilargi: Irish banks are in very deep, so we learn increasingly, $43 billion deep for a country of 4.5 million people (for the US at 300+ million, that would mean $2.8 trillion). Are they the only banks that need to reveal much bigger losses than they have so far, even after previous bail-outs and writedowns? Hell no, they're not. For instance, according to Elizabeth Warren, because 50% of all US commercial real estate loans will be underwater by the end of this year, 2988 smaller US banks will be at risk at varying degrees. Anyone still want to talk recovery?

There's a strange similarity in price developments between on the one hand the US housing market (and quite a few other housing markets) and on the other hand the newfound riches in the iron ore markets. Just that the latter got its huge gain way faster: 90% in one go. A move away from a 90 year-old yearly price setting system to a quarterly one, and bob’s your uncle. What doesn't hurt is that the new system looks set to give birth to an overbloated derivatives market for iron and steel. Just like the housing markets, that allows for prices to rise like popcorn.

But I would like to keep things down to earth today. And that is made easy by a simple graph posted by Greg Fielding, who writes an article is which he asks:

In 1996, unemployment was low, the economy was booming, stocks were rising, and the future looked bright. Email and the internet were just starting to make their ways into homes around the country. Optimism was high as an economic revolution was brewing.

Graphically, prices were heading right back to 1996 until the government decided to spend trillions of dollars to prop them up. Consider what’s been done to halt the collapse of home prices. Our demand for homes has been artificially boosted with low mortgage rates and tax credits, and our supply of homes for sale has been cut drastically by all of the foreclosure prevention efforts.[..]

Either you believe that, eventually, home prices will revert back to their relative historical norm because people can only pay so much of their monthly income for housing. OR, you believe that this time really is different; that people going forward will be willing to pay relatively more each month for shelter than for the last 120 years.[..]

I don’t know why, socioeconomically, people will pay more of their monthly paychecks for housing over the next 120 years than they did for the last 120.[..]

[..] if you believe that the economic growth since 1996 was robust enough to justify the doubling of home prices during that time, then perhaps home prices are now at the “correct” levels. But if you believe that most of the economic growth since 1996 was built on bubbles and debt, then it’s hard to find a reason why homes should be twice as expensive.

Well, you may be aware of what we here at The Automatic Earth have been saying all along: US home prices will fall 80% or more from the peak (they’ll do the same in most other countries we know, eventually). Really, what more do you need than that graph? US housing prices are down about a third, according to the S&P/Case-Shiller index, and they have 50% more to fall, according to this graph, which incidentally also comes from S&P. After that additional 50%, the oscillation factor sets in: the more you break the trend to the top, the more you’ll break it towards the bottom. That's not some freak notion, that's straight out of systems technology, or even physics in general.

And that all makes clear once again why the US government's continued insistence on propping up the market through Fannie and Freddie and the FHLB and Ginnie Mae and the FHA can end in one way only: trillions of dollars in losses, on loans, securities and other derivatives, transferred from the lenders, issuers and brokers, to the taxpayers. There simply isn't any other possible outcome, unless Moses comes down from the mountain with Jesus by his side. And last time I looked, neither was really into the US real estate market, or finance in general for that matter.

Today, the Fed apparently is going to stop buying mortgage backed securities. Moreover, Ben Bernanke has announced the intention to get $1 trillion off the Fed balance sheet. Who’ll buy? The Treasury? Not much help, is it? Or private investors? Oh, they will if you offer them enough dough... Yes, that's you, the taxpayer, who's offering that dough, though you probably have no idea that you do. How’s that work? The big boys get credit at 0%, and buy MBS that gives them 5-6-7% and comes with a 100% ironclad government guarantee. They’ll try to keep on playing the game till they can't. It’s easy when you play with other people's money.

But that doesn’t change the inevitable outcome, other than it makes the end result much worse. There is NO US housing market left, not outside of the government (and a handful of folks who pay in cash). Obama is using your future taxes to try and keep home prices at a level Wall Street banks can survive at. That works for a while, evidently, but only at enormous expense to you. You now guarantee the majority of mortgages on all US homes, which, look at the graph again, are bound to come down another 50% or more from their present levels.

It’s all a useless exercise to begin with, because the banks can’t be saved, their problem is solvency, not liquidity, and it's increasingly difficult to believe that if it's all so obvious from one little graph, no-one in the White House has any idea what's going on, or that these things are never discussed at 1600 Pennsylvania Avenue.

And since the housing market and the job market (pick your order) are the cornerstone of the economy, and both are hanging in timeless suspension over a Wile. E. cliff, at best, you need to wonder whether this administration is really doing the best it can for its voters, and the American people in general, or whether the interests of the administration or more aligned with those that paid for their campaigns than with those that voted them in. That goes for the US White House, Congress, and Senate as much as it does for parliaments and government cabinets in any other western country, let alone the governments beyond that sphere.

We are ruining ourselves, and our economies and societies, simply because we refuse to believe that tomorrow might hold less stuff to buy than today does. And before we can accept that notion as a fact of life, we'll do a lot of harm to ourselves and each other. If you own a home with a mortgage, tell me to what extent you are willing to concede that the value of that home must come down 50% from its present value, and 80% from its peak. By the time we're done, the vast majority of Americans won't be able to afford the homes they live in. Yes, that hurts, but also, no, there’s nothing you can do to prevent it from happening. What comes up must come down. And will. And then we'll have a nation of Tom Joads. Just angrier. Much angrier.

The Ghost of Tom Joad

Men walkin' 'long the railroad tracksGoin' someplace there's no goin' backHighway patrol choppers comin' up over the ridgeHot soup on a campfire under the bridgeShelter line stretchin' round the cornerWelcome to the new world orderFamilies sleepin' in their cars in the southwestNo home no job no peace no rest

The highway is alive tonightBut nobody's kiddin' nobody about where it goesI'm sittin' down here in the campfire lightSearchin' for the ghost of Tom Joad

He pulls a prayer book out of his sleeping bagPreacher lights up a butt and takes a dragWaitin' for when the last shall be first and the first shall be lastIn a cardboard box 'neath the underpassGot a one-way ticket to the promised landYou got a hole in your belly and gun in your handSleeping on a pillow of solid rockBathin' in the city aqueduct

The highway is alive tonightBut where it's headed everybody knowsI'm sittin' down here in the campfire lightWaitin' on the ghost of Tom Joad

Now Tom said "Mom, wherever there's a cop beatin' a guyWherever a hungry newborn baby criesWhere there's a fight 'gainst the blood and hatred in the airLook for me Mom I'll be thereWherever there's somebody fightin' for a place to standOr decent job or a helpin' handWherever somebody's strugglin' to be freeLook in their eyes Mom you'll see me."

The highway is alive tonightBut nobody's kiddin' nobody about where it goesI'm sittin' downhere in the campfire lightWith the ghost of old Tom Joad

In 1996, unemployment was low, the economy was booming, stocks were rising, and the future looked bright. Email and the internet were just starting to make their ways into homes around the country. Optimism was high as an economic revolution was brewing.

Is there any reason why homes today should be worth twice as much as in 1996?

Graphically, prices were heading right back to 1996 until the government decided to spend trillions of dollars to prop them up.

Consider what’s been done to halt the collapse of home prices. Our demand for homes has been artificially boosted with low mortgage rates and tax credits, and our supply of homes for sale has been cut drastically by all of the foreclosure prevention efforts.

Here is the result:

For some perspective, check out the original Case-Shiller graph that shows home prices, adjusted for inflation, for the last 100 years or so. Note that the numbers are slightly different because this chart includes all national data, not just large cities.

Now consider this:

Looking at long-term trends, we each must fall into one of two camps. Either you believe that, eventually, home prices will revert back to their relative historical norm because people can only pay so much of their monthly income for housing. OR, you believe that this time really is different; that people going forward will be willing to pay relatively more each month for shelter than for the last 120 years.

I don’t see how this time is different. I don’t know why, socioeconomically, people will pay more of their monthly paychecks for housing over the next 120 years than they did for the last 120. Sure, you can make a case that a particular neighborhood or town has become more desirable, but that is irrelevant on a national scale.

In short, if you believe that the economic growth since 1996 was robust enough to justify the doubling of home prices during that time, then perhaps home prices are now at the “correct” levels. But if you believe that most of the economic growth since 1996 was built on bubbles and debt, then it’s hard to find a reason why homes should be twice as expensive.

Exotic U.S. mortgages are disappearing in the Spartan post-meltdown era, supplanted by a decidedly old-school mode of financing – cash. In what experts say is a sign the battered U.S. housing market is cautiously finding a bottom, more Americans than ever are choosing to plunk down cold, hard cash to buy homes. Cash was the currency of choice in 27 per cent of all homes purchased in the United States in March, according a survey by the U.S. National Association of Realtors (NAR).

That's up from 18 per cent a year earlier – and well above the historic norm of less than 10 per cent. Even those who do get mortgages are making much larger down payments than in the past. “We've had this huge pendulum swing – from liar loans, no-doc loans and no-income loans – to no loans at all,” NAR spokesman Walter Molony said. “We've gone to the opposite extreme.” Blame it on a combination of extremely tight credit conditions, a glut of foreclosed properties, sellers eager to get their money out without strings attached and a surge of buying by investors, who see the best real estate values in years and don't want to share the profits with lenders.

Even with interest rates at historic lows, banks are no longer offering the generous terms that were once commonplace. Nowhere is this more the case than in the areas of the country that saw the most speculative excess in the boom years – California, Florida, Nevada and Arizona. In Miami, for example, well more than 50 per cent all transactions are now in cash. “Nine out of 10 deals we do are all cash,” said Miami real estate agent Peter Zalewski of Condo Vultures Realty. “It's virtually the only way to get a deal done in south Florida, especially if the property is a condo.”

The preference for cash is a function of both cautious lenders and nervous sellers, suggested Mr. Zalewski, who specializes in brokering bulk condo sales. After being so badly burned during the boom, major national lenders have virtually pulled out of the Miami housing market, he said. At the same time, sellers – many of them banks holding foreclosed properties – want the certainty and expediency of cash. In this new show-me-money environment, buyers with cash are beating out those waiting for financing.

“Sellers would rather take a lower price and close with all cash in two weeks, instead of waiting 30 to 60 days for a deal at a higher price that may or may not happen,” Mr. Zalewski explained. And the return of investor-purchasers to cities such as Miami is a sign that buyers believe prices have nowhere to go but up after the historic meltdown. “People are going in with cash because they're confident it's the bottom,” Mr. Zalewski said.

It isn't only investors who are paying in cash. Mr. Molony said first-time buyers and those looking for loans on high-end properties are finding traditional financing tough to get. So they're selling their investments to raise money for a home, or borrowing from family and friends. Investors accounted for 19 per cent of homes bought in the United States in March, up from 15 per cent in December, and a large percentage of those paid in cash, Mr. Molony said. But the rest were ordinary home buyers, who are being turned down by lenders, in spite of the extraordinary efforts by the U.S. government to prop up the housing market.

“All-cash purchasing is just standing out,” Mr. Molony said. “It's a really high share.” Buying without a mortgage means people are coming up with substantial liquid assets. The median price of a single-family home in the United States was $164,300 (U.S.) in February; $170,200 for a condo.

With mortgage rates still near generational lows, national home prices down more than 20% from the peak and the government providing tax incentives for homebuyers, it seems like a great time to buy a house; at least, that's what your friendly neighborhood realtor says on those late-night TV commercials. But is it true?

"If you've got good credit and can put a down payment down...and you're planning to stay in the house for an extended period of time [like] seven-to-10 years, then now could be an attractive time to buy," says Zillow.com chief economist Stan Humphries. But those people who can afford to wait to buy a house are probably better off, Humphries says. Based on the most recent data, there are 3.6 million existing homes and 236,000 new homes for sale in America; that equates to 8.6 months and 9.2 months of supply, respectively, based on current sales rates. But that's only half the story. Humphries notes the official inventory numbers "don't capture all the foreclosures that are out there," or the so-called shadow inventory of homes waiting to come on the market.

So how big is the "shadow" hanging over housing? A recent Zillow.com survey shows 8% of homeowners, or about 10 million Americans, are "very likely" to sell if and as local conditions improve. Humphries doesn't expect anywhere near 10 million more homes to come on the market in the near term. But this "pent-up supply" combined with foreclosures already in the pipeline and those yet to come because of negative equity and job losses means it will take three-to-five years "before we see more normal appreciation rates return to the market," the economist predicts. In other words, time is still on the buyers' side -- yes it is.

Last month, we reported in our Q4 Real Estate Market Reports that five of the 143 markets we covered were in the throes of a “double dip,” meaning home values showed sustained monthly increases sometime during the year, but have been falling again, for at least five months in a row, on a month-over-month basis.

Some additional markets were on the double-dip watch list. Home values, measured by the Zillow Home Value Index, were falling after earlier increases, but the falls hadn’t yet gone on long enough to constitute a real trend.

One month later, and 12 markets have made it onto the official double-dip list. The Providence, R.I. and Boulder, Colo. metropolitan statistical areas (MSAs) are among them.

The watch list has shrunk a bit, as many markets that were on it last month sunk firmly into double dip territory after January. Ten markets, including the Boston and Denver MSAs, seem poised for a double dip. Here’s the full list:

On the other side of the coin are 16 markets that continue to show monthly increases. But for some of these, there is a caveat. Markets like the San Francisco MSA, while seeing month-over-month increases, are also seeing the rate of increase slow. If that continues, home value changes could tip back into negative territory, making some additional MSAs candidates for the double dip.

But for homeowners who live in a double-dip market, don’t lose heart. The double dip is nothing more than the continuation of an inevitable market correction. It’s not a new downturn, just the end of the one most markets have been experiencing since 2006. As Zillow Chief Economist Dr. Stan Humphries explained in his blog post last month, the bottom is in sight for most markets across the country, although we expect it will be several years before values begin to show substantial increases again.

One quick note on how we define double-dip markets: Not only do the monthly increases and decreases have to be sustained (the first downturn has to last for at least 10 of 12 months, and the upturn and subsequent downturn have to last for at least five months), they also have to total an annualized change of at least 1 percent.

It was the summer of 2004. People were camped out in Hollywood, Florida for the chance to buy one of the 285 units in a condo development called Radius. All of them sold out in 10 hours - half a year before construction was scheduled to begin. Many of the units were bought by flippers who intended to put them up for resale before the development was finished, often as soon as the purchase was completed.

This buying frenzy was not confined to the overheated condo markets in Las Vegas, San Diego, Chicago, Phoenix and much of California and Florida. The following spring, panicked buyers were camping overnight to bid on a $700,000 two-bedroom house in a suburb of D.C.

What had led the American Dream of owning a home to come to this? It was three essential ingredients. The housing bubble and its inevitable collapse would never have been possible without (1) hordes of speculators (2) absurdly easy financing and (3) widespread mortgage fraud. We'll examine the first of these three now and the other two in subsequent articles.

Who Were the Buyers that Fueled the Housing Bubble?

A record 7.7 million existing homes were sold in the United States in 2004. This was much higher than in any previous year. How was this possible? After all, when baby boomers were in the peak years of buying their first home in the late 1970s, fewer than four million existing homes had been sold annually. Also puzzling is that boomers had been forming new households at an annual rate of 1.6 million between 1974 and 1980 according to the Census Bureau. During the height of the buying frenzy - 2004 - a mere 720,000 new households were formed.

By 2005, the median price of homes sold in the U.S. had climbed to $220,000 according to the National Association of Realtors (NAR). In the hottest markets, the median price had skyrocketed to $450,000 in Los Angeles, $300,000 in Las Vegas, $280,000 in Chicago, and more than $500,000 in Brooklyn.

The NAR reported in its Annual Profile of Home Buyers and Sellers that first-time buyers had purchased 40% of all existing homes in 2004. The Association emphasized that this had fueled the red-hot trade-up market. Yet the median household income of renters was only $30,000 as recently as last year. Could three million renters with such modest incomes have possibly afforded to buy a first house at these price levels in 2004? It seems very unlikely.

An important study entitled "Liar's Loan? Effect of Origination Channel and Information Falsification on Mortgage Delinquency" was published on Columbia University's website in September 2009. Its database included the complete files for 721,000 loans which had been originated nationwide by a large mortgage banking firm (whose identity the authors did not disclose) between January 2004 and February 2008. The authors reported that between 2004 and 2006, an average of only 13% of all the borrowers stated in their application that they were first-time buyers.

If the number of renters able to afford homes was rapidly shrinking during the bubble peak, who was behind the frenzied buying from early 2004 to mid-2005? Put simply, it was speculators.

An article published in the May 2005 issue of Fortune magazine took an in-depth look at this speculative mania that was sweeping the country. These young speculators were descending on city after city in search of making a killing in real estate. One of them was a 22-year old who, by selling his first investment property in Las Vegas, had made enough to buy eight more properties in Phoenix with a down payment of 10% on each. He then purchased another seven houses in Phoenix by partnering with a close friend's father. Though none of these properties had a positive cash flow, he wasn't the least bit concerned. His view was that of the pure speculator: "I'm in it for the appreciation."

Phoenix had become a hotbed of speculative buying. By March 2005, monthly home sales had climbed to nearly 10,000, up 13% from March 2004 and 73% higher than March 2001 sales. Speculative interest was so great that the inventory of homes for sale had plunged from 23,000 in March 2004 to a mere 3,000 a year later.

Between 2001 and 2005, the median sales price of homes nearly doubled. According to DataQuick Information Systems, its huge database revealed that nearly 40% of residences had been bought by absentee owners (i.e. investors) in 2005. In an August 2005 interview with a local Phoenix TV station, the head of Arizona State University's Real Estate Center, Jay Butler, stated that investors were responsible for at least 20-40% of home buying in Phoenix, and possibly higher.

Another couple in their thirties that the Fortune article portrayed had bought five foreclosure houses in Florida in 2002 with a down payment of only $1,000 each. Home values were soaring and they decided to become full-time real estate speculators. They moved to Las Vegas in 2003 where other speculators were swarming like locusts. They bought another seven properties by draining what remained of their savings and then purchased several more by borrowing down payments from family and friends.

Even cities such as Austin, which had not witnessed the soaring property values that was occurring throughout California, became infested with these young speculators. One broker led car caravans for out-of-town speculators who saw Austin as the next hot spot.

A young San Francisco couple in their mid-thirties described in the same Fortune article who had purchased a dozen houses in Phoenix sold two of them so they could roll the profits into Austin properties. When asked whether the housing market was becoming a bubble, the husband replied, "I love all the talk of the bubble. It eliminates all the chickens." The broker who led these tours had seen his client base become 80% investors largely because of these out-of-state speculators.

An article which appeared in the Wall Street Journal (WSJ) in January 2007 painted a vivid picture of the speculative fever which gripped nearly all of Florida. Naples, near Ft. Myers, had become a "hot market" by early 2003. One Naples real estate agent, who owned 13 investment properties there, told the authors that by 2004, "investors were "scouring every corner of Naples."

Another realtor, mentioned in the same WSJ article, sold his own home in the fall of 2004 to an investor for $435,000, more than double what he had paid for it five years earlier. He soon sold numerous other properties to her including a duplex for $621,000 in October 2005 which he had bought seven months earlier for only $349,000. This same investor also bought another house in July for $690,000 which had sold for $275,000 in early 2001. The next door neighbor told the authors "We were just laughing at these prices.... I grew up here and it's out of control."

During the peak of the speculative bubble in Naples from early 2004 to the fall of 2005, median prices almost doubled from $250,000 to $420,000. The authors of the WSJ article talked to numerous local real estate agents who agreed that during this period "as many as 50% of buyers may have been investors."

Nearly all of California was full of speculative activity from 2002-2005. Between early 2002 and the end of 2005, the average price per square foot of homes purchased in Los Angeles had skyrocketed from $200 to $470 according to

trulia.com. Mortgagedataweb.com showed that the average mortgage for homes bought in San Francisco had soared to nearly $670,000 by the middle of 2005. Monthly home sales in San Diego had risen to nearly 6,000 by March 2004 and listings for sale plunged to only 2,000 a few months later. In Sacramento, the average mortgage for home purchases increased from $250,000 to $350,000 in a year and a half.

In a February 2006 posting on the Housing Panic blog, an Oakland, California couple explained that they had decided to sell their modest two-bedroom condo in August 2005 after watching a neighbor's home sell for $665,000, which was $100,000 more than the asking price. The couple listed their 965 square foot condo for $459,000 and after receiving 8 offers, sold it for $575,000. Their conclusion was filled with wisdom: "The frenzy of the sale ... was such a freak show that I knew we had to be close to the top."

This gives you an idea of how crazy the speculative home buying had become during the bubble years of 2004-2005. In the next article, we'll explore how easily nearly all buyers were able to obtain mortgage financing.

Ilargi: I have no idea how or why Bill McBride could possibly think the key indexes could have bottomed out yet (some people should stick to collecting data, not interpreting them), but this is a useful overview regardless.

Anyone thinking housing prices have reached a bottom had better do some recalculating. Despite Tuesday's Case Schiller report showing smaller declines in January, housing prices may already be in another free fall.

Newly revised numbers are pointing to the decline.

The Federal Housing Finance Agency's (FHFA) adjusted figures show a housing price decline of 2 percent in December and 0.6 percent decline in January—reversing some regional price increases in 2009.

And more pricing dips are predicted.

Few people use the FHFA index anymore, but I do think prices will fall further in many areas. And I think the key housing price indexes, Case-Shiller and First American CoreLogic, have not bottomed yet - although it is possible.

Right now the Case-Shiller composite 10 index is 4.4% above the bottom of May 2009 (seasonally adjusted), and CoreLogic's index is 3.5% above the bottom of March 2009 (NSA), so it will not take much of a decline to see new post-bubble lows.

Housing Tax Credit: Buyer must sign a contract by April 30th and close by June 30, 2010 to qualify. Real estate agents in SoCal are telling me there has been a pickup in activity lately - more than seasonal - of buyers trying to beat the deadline for the tax credit. But it is nothing like the buying spurt last November. Most economists opposed the tax credit as misdirected, expensive and ineffective at reducing the supply. Luckily the supporters have promised no extension, from the LA Times: No more extensions of tax credit for first-time home buyers

Federal Reserve MBS Purchase Program: The Federal Reserve is has purchased $1.25 trillion of agency mortgage-backed securities and about $175 billion of agency debt. This is scheduled to end tomorrow, March 31, 2010. It seems very unlike there will be a huge surge in rates as some feared, but I do expect the spread to Treasury yields to increase slightly.

HAMP Trial Programs Extended: Although the most recent extension ended Jan 31, 2010, the Treasury has added more hoops and hurdles before the lenders can foreclosure, effectively extending the timeframe once again. Now borrowers might be eligible for a temporary unemployment reduction, principal reduction, or participate in the HAFA short sale program.

Support for Fannie and Freddie: This is ongoing.

FHA to tighten Lending Standards: In January the FHA announced slightly tighter standards, but the standards are still pretty loose.

Various Holiday Foreclosure Moratoria: Although this ended back in January, some lenders like Marshall & Ilsley have extended their foreclosure moratoriums:

Marshall & Ilsley Corporation (M&I) today announced it has extended its foreclosure moratorium an additional 90 days – through June 30, 2010. The initial moratorium was announced on December 18, 2008, as part of M&I's Homeowner Assistance Program. The moratorium is on all owner-occupied residential loans for customers who agree to work in good faith to reach a successful repayment agreement. The moratorium applies to applicable loans in all M&I markets.

And other lenders are clearly not been aggresive in foreclosing.

So although some key programs are ending (MBS purchase program and housing tax credit), there are still a number of temporary programs providing support for the housing market.

No man is happy without a delusion of some kind. Delusions are as necessary to our happiness as realities.Christian Nevell Bovee, 1820-1904, American Author, Lawyer

Meanwhile, taxpayers have pumped more than $125 billion into the failed firms -- and on the hook for many more after the administration promised an unlimited source of funds just before Christmas to backstop their growing losses. "We will do everything necessary to ensure these institutions have the capital they need to meet their commitments," Geithner said in response to tough questions from Rep. Scott Garrett, a New Jersey Republican. Underscoring the need for change, Geithner acknowledged that taxpayers are likely to face "very substantial" losses on the government's takeover of Fannie and Freddie.

Republicans on the panel want to dismantle Fannie and Freddie within five years, arguing that the government-backed firms cost taxpayers too much with little to show for it -- hundreds of billions in taxpayer losses for a housing finance system rife with moral hazard issues and a crowding out of private companies from the market.

When Geithner states that they will do everything to make sure these institutions have the capital they need to function, he is basically stating that they are willing to use tax payer’s money to fund two worthless entities, instead of dismantling them. Trying to keep these agencies floating is akin to pouring money into a bottomless pit.

One of the old lines was that these two agencies helped make housing affordable by providing an avenue for individuals who would not normally qualify for a mortgage. The following quote was extracted their site.

Fannie Mae works to increase the supply of affordable for-sale and for-rent housing across America by creating customized financing solutions with our housing partners. These financing solutions help ensure stable, livable neighborhoods. Through multiple community development investment funds, Fannie Mae works to tear down barriers, lower costs and increase opportunities for homeownership and affordable rental housing for all Americans.

They have been a failure in every sense of the word; in trying to provide affordable housing they indirectly provided banks with the incentive to sell as many mortgages as possible. As soon as the deal was closed the banks could get these mortgages of their books by dumping them onto these two agencies.

Some background info on these two companies

They were created by the Federal National Mortgage Association in the 1930’s to help speed up the home ownership process by buying mortgagees from banks. Banks would normally sell a mortgage and then put it on their books, this means that each time they did so, a certain amount of capital was tied up and this limited the number of mortgages they could issue. Now they could simply issue a mortgage and sell it to Freddie or Fannie and as a result banks could issue almost as many mortgages as they could sell.

Although they are private companies, they are government sponsored enterprises established by federal law. As GSE’s they received special privileges, the main one being that if they were threatened with failure, the federal government would come to their rescue. This gave them the best of both worlds; profits are privatised but losses are socialized. This guarantee basically encourages immoral and unconscionable behaviour because there is no downside; the downside becomes the government’s problem, which in turn becomes the tax payer’s problem.

Now let’s examine if they really helped the public

Freddie Mac lost 50 billion last year but has now come begging to the government for another 31.8 billion and this comes on top of the 13.8 billion Freddie asked for last year. The government has pledged a massive 200 billion line of credit to support this disaster and based on all the talk so far, they would probably offer even more if Freddie ever needed it.

If we weigh the cost to the taxpayer and the so called savings these two mortgage giants provided, one finds that they failed miserably and have really provided no benefit at all. How can this be? The so called benefits from offering lower mortgage rates has been offset by the cost of all the money taxpayers have poured into these two companies.. They had access to money at a lower rate than private companies and could in turn pass these savings to the consumer; lenders provided them with lower rates because their survival was guaranteed by the Federal government. Based on the amount of money they have already asked for and the future amounts they will need to continue functioning, it is estimated that by the end of the year they will become net losers. In other words, they would have moved from providing some value to providing none at all.

Lawrence J. White an economist at the New York University (Stern School of business) states that the GSE’s could borrow money 35-40 basis points lower than the private sector. Thus if the standard rate was 6%, they paid only 5.60-5.65%.

At the end of 2008 these two companies had 31 million mortgages on their books, which were worth in excess of 5 trillion (actual figures were roughly in the 5.4-5.6 trillion ranges). Thus borrowers would have saved roughly 10 billion in 2008. According to Daniel Gross over the years, they supposedly produced savings of $100 billion.

If we compare this potential $100 billion in savings they have provided against the $300 billion plus in financial support the Government has pledged to both these agencies, the conclusion is clear; these two companies have provided no benefit at all. In fact, one has to wonder why they continue to exist as they have now become a monumental liability. It is true they have not used up all the money the government has pledged to them (at least not yet) but at the rate, they are burning this money, it’s only a matter of time before they go through those funds before they start begging for more. Thus would it not be better to dismantle these two monstrosities and cut and end the haemorrhaging.

If one were to state that these guys had a large role to play in the financial crisis that hit this nation, one would not be too far off the mark. After all they did provide banks with an incentive by virtually buying any crap that the banks were willing to throw at them.

The government is hell bent on pouring good money into completely useless projects, but when it comes to helping individuals; they find ways to make painful cuts. Point and case, not approving a $250 checks for senior citizens. To make matters worse they create money out of thin air to pay for these black hole projects, thereby further devaluing our currency and indirectly imposing a silent tax on the population. The only way investors can protect themselves under such conditions are to make sure that one puts a portion of one’s money into hard assets; the simplest way to do this would be to purchase some Gold, Silver or Palladium bullion.

The people of the world having once been deceived, suspect deceit in truth itself. Hitopadesa, 600?-1100? AD, Sanskrit Fable From Panchatantra

Investors flooded risky companies with money in March even as the government prepares to shut down a key engine driving one of the greatest corporate-bond rallies in history. A total $31.5 billion in new high-yield debt, otherwise known as junk bonds, hit the market through Tuesday, exceeding the previous monthly record in November 2006. Partly propelling the activity: The Federal Reserve's massive mortgage-buying program, which comes to an end Wednesday. By buying $1.25 trillion of mortgage securities, the Fed absorbed a flood of assets that otherwise would have needed buyers. That kept money in the hands of investors, who went searching for something else to buy. The Fed's underpinning encouraged investors to seek riskier, higher-yielding securities. A natural choice: corporate bonds.

The bond boom helped spur a rebound in the stock market and in the broader economy—recoveries that then, in turn, reinforced the bond rally. Investors poured a record $375.4 billion into bond mutual funds in 2009, while pulling out $8.7 billion from stock funds, according to data compiled by the Investment Company Institute. Also Tuesday, a closely watched index tracking high-yield bond returns reached a record high, capping an 82% run from its December 2008 bottom, according to Bank of America Merrill Lynch indexes. Even returns on normally stodgy investment-grade U.S. debt are up 35% from their October 2008 bottom. By contrast, major stock-market indexes are still below precrisis levels, and their returns have trailed those of bonds.

Among the high-yield issuers in recent weeks have been California mortgage lender Provident Funding as well as Dutch firm LyondellBasell, which issued notes to help U.S. subsidiary Lyondell Chemical emerge from bankruptcy-court protection. Just 18 months ago, in the depth of the financial crisis—a time when the nation's debt markets were frozen—this kind of activity was all but unimaginable. Lehman Brothers had collapsed and investors sold bonds to meet their short-term cash needs just to survive.Doubts were growing about the survivability of some of the world's most credit-worthy companies.

Today, with the Fed's mortgage-buying program coming to an end, the debate is turning to whether the economy can sustain the rally. The odds are increasing that corporate-bond gains may be limited from here, given the heights already reached, the government's reduced support and the risk of rising interest rates. Much of the focus concerns economic growth, with many investors arguing that further market gains depend on a "Goldilocks" scenario—with growth neither too strong nor too weak—to continue. "If we have an anemic recovery, then most of the market is overrated," says Joe Ramos, lead fixed-income portfolio manager at Lazard Asset Management. "Everything from municipal bonds to corporate debt is rated too highly for the level of cash flow that can be generated."

He defines anemic as a recovery with gross domestic product growth slower than the 3% economists expect for 2010, along with high unemployment. A too-strong recovery, on the other hand, would raise interest rates and could push investors out of bonds and into stocks. Bullish investors counter that stronger economic growth and a quick drop in unemployment would lower the risk of corporate defaults and make debt an even safer bet. "Yields are still low, and there is still an insatiable demand for higher yield," says Jim Sarni, senior portfolio manager at Payden & Rygel. "That is what will be the self-sustaining mechanism." He and others also note that a lackluster recovery would keep the Fed from raising short-term interest rates, which also protects fixed-income investments.

The revival of bond fortunes has roots in the Fed's decision, around Thanksgiving 2008, that may have done more than anything else to encourage more investors to take a flyer on bonds. On Nov. 25, the Fed announced it planned to buy debt and mortgage-backed securities issued by housing-related government-sponsored entities such as Fannie Mae and Freddie Mac. The program pushed mortgage-security prices higher, giving fixed-income managers an incentive to sell to the Fed. In return, they had a flow of cash that had to be put to work. With Treasury debt yields at record lows, the best alternative remaining was corporate debt. "That was the big turning point," says Ashish Shah, head of global credit strategy at Barclays Capital. "That's what drove money into credit."

The Fed expanded this program on March 18, of last year, to buy $1.25 trillion in mortgage securities, along with $200 billion in debt of Fannie and Freddie and up to $300 billion in long-term Treasury debt. The expansion fueled the second leg of the rally, which hasn't stopped. Fed officials wouldn't comment on whether they intended this secondary effect when designing their asset-purchase program. But they have suggested in speeches that it was a predictable outcome. "With lower prospective returns on Treasury securities and mortgage-backed securities, investors would naturally bid up the prices of other investments, including riskier assets such as corporate bonds and equities," Brian Sack, head of open-market operations at the New York Fed, said in a speech in early December last year.

The Fed added to the buying pressure in December 2008 by cutting its target for the federal-funds rate—an overnight bank-lending rate—to roughly zero. Thereafter, holding cash yielded nothing. And it cost next to nothing to borrow money to invest elsewhere. "That was just a tremendous incentive to take on risk," says Kathleen Gaffney, co-manager of the Loomis Sayles Bond Fund. "When you looked at the yield on corporate credit, it was really too good to be true."

In fact, many investors struggled to find good bonds at bargain prices in the secondary market. So they vacuumed up any corporate bonds that were brought to market. In response, U.S. companies issued $122.9 billion in new debt in January 2009, a record pace for the month, according to Dealogic. Given the circumstances of the past couple of years, it is unlikely the opportunities created by the Fed—giving investors the chance to make huge profits at the worst moments for credit—will come around again any time soon. "People always ask if the easy money has been made," said Jason Brady ,a fixed-income portfolio manager at Thornburg Investment Management in Santa Fe, N.M. "There was no easy money."

By the end of 2010, about half of all commercial real estate mortgages will be underwater, said Elizabeth Warren, chairperson of the TARP Congressional Oversight Panel, in a wide-ranging interview on Monday. “They are [mostly] concentrated in the mid-sized banks,” Warren told CNBC. “We now have 2,988 banks—mostly midsized, that have these dangerous concentrations in commercial real estate lending." As a result, the economy will face another “very serious problem” that will have to be resolved over the next three years, she said, adding that things are unlikely to return to normalcy in 2010.

Meanwhile, the U.S. Treasury on Monday pledged to sell its 7.7 billion Citigroup shares this year, a step that further reduces the government's influence on the banking giant. Warren said she is having difficulty getting clarity on Citigroup’s business plans. “This is a cake that is still being baked,” she said of the company's plans. “[Citi's CEO] Vikram Pandit said he was going to shrink the company by 40 percent...and Citi’s numbers keep moving around so much I don’t know.”

Speaking on troubled mortgage lenders, Warren said it’s time for the government to "pull the plug" on mortgage lenders Fannie Mae and Freddie Mac. “I’m one of those people who never liked public-private partnership to begin with. I think what they did was use public when public was useful and private when private was useful,” she said. “And I think we’ve got to rethink that whole thing.” “There is no implicit guarantee anymore,” she added. “I don’t care how big you are, if you make serious enough mistakes, then your business can be entirely wiped out."

Failing US financial institutions must face the credible threat of government closure if reforms are to succeed, a key adviser to President Barack Obama said Tuesday. Paul Volcker, a former Federal Reserve chairman, said reforms being discussed by Congress hit on the "essential elements" of financial reform, but that a strong government arbitrator must emerge with the power to wind down firms. "There is a clear need for a so-called resolution authority," Volcker told members of the Peterson Institute for International Economics, a Washington-based think tank.

Volcker said that massive government bailouts of a host of banks and insurance giant AIG over the past two years must not be allowed to convince others they can expect a government safety net, and so encourage risky practices, creating a so-called "moral hazard." He said the multibillion-dollar government bailouts raised the problem of "moral hazard writ large." While he said the government should have the power to step in to bolster firms if needed, "ultimately the failing firm should be liquidated or merged. In all... it is a death sentence, not a rescue at the hospital."

Obama has pushed Congress to pass sweeping reforms of the financial sector, as he taps into public anger at the role banks played in spurring the worst recession in a generation. Volcker has been at the forefront of Obama's efforts, heading an influential economic recovery panel. The former Fed chairman has advocated stopping banks from holding customers' deposits at the same time as making investments for their own gain -- so-called proprietary trading. Curbs on "prop trading" had been in effect since the Great Depression.

In 1933 Glass-Steagall Act prohibited commercial banks from underwriting corporate securities, or acting as brokerages. But the rules were overturned in 1999, during the administration of president Bill Clinton. In January Obama backed the "Volcker rule" against proprietary trading as "a simple and common-sense reform." Volcker, an octogenarian who headed the Fed from 1979 to 1987, supported Obama during his Democratic bid for the presidency and subsequently was tapped to head the President's Economic Recovery Advisory Board, an independent, nonpartisan body created to tackle the worst recession in decades.

US companies continued to cut jobs in March, disappointing predictions that private sector employers would begin hiring for the first time in two years. Private businesses cut 23,000 workers this month, according to a survey from ADP employer services. on Wednesday. That failed to meet expectations of Wall Street analysts who were expecting gains of 40,000, but was the smallest monthly total of job losses since February 2008.

“The latest numbers will douse some of the ebullient expectations ahead of Friday’s number, though the trend is still ultimately favourable,” said Alan Ruskin, strategist at RBS Securities. Producers of goods, such as manufacturers, continued to weigh on the labour market in March, with employment in that sector falling by 51,000. A bright note was the services sector, which added 28,000 workers and marked its second consecutive monthly rise.

The ADP report comes ahead of Friday’s closely watched government non-farm payrolls figures. The US economy is expected to have added 200,000 jobs with the unemployment rate holding steady at 9.7 per cent. Wednesday’s data could be understated because it does not track census hiring, which is expected to account for 100,000 jobs, and because it does not make adjustments for weather, which depressed February’s official report.

In March, small businesses fared the worst, culling 12,000 jobs. Meanwhile, large companies cut 7,000 workers and mid-sized groups cut 4,000. Economists have been wary that the jobs market is lagging so far behind the rest of the economy’s recovery and that the growing problem of long-term unemployment could be leading an erosion of skills among displaced workers. “Roughly nine months after the recession in output finished last year, the economy is still losing jobs,” said Paul Ashworth, senior US economist at Capital Economics. “Yes, employment sometimes lags output by a few months, but not normally by this long.”

With the U.S. facing annual deficits of $1 trillion (or more) for the next decade, the recent sell-off in the bond market could be cause for alarm. Are foreigners finally calling Ben Bernanke's bluff? Is America the 'new Greece'? Have the deficit chickens finally come home to roost? "Only time will tell," says David Walker, President and CEO of the Peter G. Peterson Foundation, which is devoted to promoting fiscal responsibility.

A longtime deficit hawk, Walker says a distinction must be made between short- and long-term deficits. The former is largely caused by the recession and will likely prove temporary, says the former U.S. Comptroller General and head of the Government Accountability Office. "What threatens our future are the deficits that will exist when the economy is recovered, when unemployment is down, when wars are over and the crises are passed," Walker says. "That's what threatens the ship of state."

Specifically, Walker cites the $50 trillion in unfunded liabilities -- mostly for Social Security, Medicare and Medicaid -- which make up the bulk of America's roughly $62 trillion in long-term debt. The hole is so gargantuan we cannot grow or inflate our way out, says Walker. He offers the following prescription, as detailed in a new book Comeback America:

Re-impose tough budget controls

Reform social insurance programs

Constrain spending

Reform the tax system in ways to raise revenue

As to which party or President is responsible for our predicament, Walker says there's "equal opportunity for critique." The George W. Bush administration "arguably was the least fiscally responsible in history," Walker says, based on the swing in the federal budget from a $230 billion surplus in 2000 to a $1.2 trillion deficit in 2008. "But the jury is out on the current administration," he says. "The numbers are shocking. Ultimately [Obama's] responsible now. He's got to come to grips with 'what are we going to do?' on his watch. We'll have to see what ends up happening."

The Obama administration said on Tuesday that it expects financial regulatory reform to pass through the Senate -- maybe even through Congress -- by late May, establishing the type of timeline that frequently vexed the president during the health care debate. "I don't think that is an unrealistic timetable at all," White House Press Secretary Robert Gibbs told reporters, when asked about "a push to get the bill to the president's desk by the end of May."

"Obviously we have had a bill through the House, a bill through the [Senate Banking] Committee, un-amended, nobody on the Republican side even offered an amendment. So I think the next piece of business that the Senate will take up will be financial reform," Gibbs added. "I don't think that [late May] is unrealistic. I think without a doubt the president would like to see, with his signature, sprawling rules in place, certainly prior to the two year anniversary of the collapse of our economy. So I think we are on a pace to make those changes quite quickly."

Following the briefing, a White House aide told the Huffington Post that the goal remained to have the Senate pass its bill by the end of May -- not necessarily to have both chambers get a merged bill to the president's desk (which is what the questioner asked). Either way, the timeframes represent an accelerated push on the administration's behalf to push regulatory reform into law. On Tuesday, Obama aides and Treasury Secretary Timothy Geithner were scheduled to meet with Paul Volcker -- the influential presidential adviser who has forcefully argued that the administration should take a tough line with big banks -- to discuss reg reform matters.

The ultimate objective, as Obama spokesperson Jen Psaki told the Huffington Post, was to have new rules in place by "at least by the two year anniversary of the crisis." The time certainly now looks ripe to push the bill over the finish line. The president appears ascendant following his health care reform victory last week. And several Senate Republicans -- namely Judd Gregg of New Hampshire and Bob Corker of Tennessee -- have conceded that some form of legislation will make it into law. "This is an issue that almost every American wants to see passed,'' Corker said. "There will be a lot of pressure on every senator and every House member.''

Asked what the White House is preparing to do to obtain some Republican support for the enterprise, Gibbs suggested that there isn't a lot of legislative wiggle room. "We are not going to compromise on what we believe represents a very strong piece of legislation," he said. "The president is going to outline the plan that he believes best puts those rules of the road in place, ensures a strong, independent Consumer Financial Protection Agency, provides the type of clarity and disclosure that the American people need to judge financial reform... I think we are on the path to do that."

For county and municipal officials as well as board of education members reviewing the proposed state budget for fiscal year 2011 must be like flipping through a Stephen King mega-novel, each page bringing new horrors as they struggle to absorb the billion dollar plus cuts in state aid proposed by Gov. Christie. Layoffs of teachers, police officers, and hundreds of other public employees, sharp cutbacks in school activities and municipal services, and increases in property taxes have become widespread as local officials scramble to cope with the loss of unprecedented amounts of state funding.

While the critical reaction from legislative Democrats and public employee union leaders was expected, rumblings of discontent have surfaced from Republicans as well, most notably Warren County State Sen. Michael Doherty. Doherty possesses impeccable conservative credentials, but has voiced his concern that the state aid cuts were too much, too fast for municipalities and boards of education to deal with. Particularly worrisome to Doherty and many of his Republican colleagues is the loss of more than a billion dollars in school aid funds, primarily in suburban districts represented by Republicans.

The proposed reductions in local aid have become the flash point as school districts came to the stunning realization that they stand to lose between 20 and 100 per cent of their funding. While they welcome the pledge by the Governor to provide new or expanded authority to cut and control costs, most of the changes have yet to be enacted and the impact of others may not be fully felt for another year. For municipalities and school boards, the difficulties they face are immediate. They have or soon will feel the wrath of their constituents as they announce layoffs of police officers, firefighters, and teachers and pile the cutbacks in personnel and services atop triple digit dollar increases in property tax bills.

Christie has steadfastly maintained that the aid cuts are necessary because the state no longer has the financial resources to continue to spend as it has in the past and that the reductions will eventually result in a far more stable and responsible fiscal environment for government at all levels. His recently called for public school teachers to accept a freeze on salaries, forego scheduled increases provided by contracts currently in force, and re-open contracts to identify givebacks and other cost-cutting steps.

Public employee unions and the leadership of the 200,000-member New Jersey Education Association know neither the Governor nor local governments can unilaterally impose a wage freeze or refuse to comply with contractual obligations. They have dismissed the Governor’s suggestion as one more skirmish in his running political battle with public employees. The Governor’s view that the lack of discipline and responsibility in state budget operations produced the current distortion in the ratio of spending to revenues is both legitimate and accurate. Even his most outspoken critics concede his point. He must, though, be experiencing some level of concern over Doherty’s comments, for example, as an indication that others feel much the same way.

Seeking legislative support for budget cutting is generally accepted. Asking Republicans in this case to vote against the best interests of their constituents, however, will meet with considerably greater resistance. Democrats have already ratcheted up the pressure to reinstate the state income tax surcharge on incomes in excess of $400,000 and allocate all or some of the one billion dollars it generates to restoring state aid to local school districts. Senate President Steve Sweeney was unequivocal in his comments that the Legislature would not approve a budget without the surcharge, setting up a bitter and protracted confrontation and the possibility of another shutdown of state government by failing to produce a budget by the June 30 deadline.

Democrats argue that the years’ worth of relief the tax surcharge revenue provides to school districts will allow sufficient time to see them through this year and take full advantage of state-mandated cost cutting measures in 2011. The argument is bound to have some appeal, even to Republicans who are feeling the pressure from officials and taxpayers in their districts who will hold them accountable for property tax increases. Christie has adamantly opposed the revival of the surcharge, calling it a tax increase that will further harm an economy in distress. He has also criticized it, with some justification, as an example of the kind of action which merely postpones facing up to problems and allows them to fester.

The Legislature has until the end of June to arrive at a consensus on the budget, three months guaranteed to be one of the most politically charged in recent memory. Local officials may want to put aside the Stephen King novel they’ve been handed in favor of something a little more pleasant. Hopefully, it won’t turn out to be Hamlet; everyone dies in the end.

Brazilian mining giant Vale has reached tentative quarterly iron ore price deals with Asian steel companies that would boost prices by about 90 percent, sources with knowledge of the talks said. The move could mark the first quarterly pricing deal for Vale, the world's top iron ore producer, which for years defended the decades-old benchmark system but recently said it was adopting more flexible marketing. Vale and Nippon Steel, Japan's biggest steel producer and the world's second largest, have reached a basic agreement to pay $100-$110 per tonne of iron ore in the April-June quarter, a source told Reuters. Nippon Steel declined to comment. That would also mean a roughly 90 percent price hike for South Korea's Posco, which negotiates jointly with Nippon Steel.

The near doubling in negotiated iron ore prices would set an important benchmark for purchases by China, analysts said, and points towards sharply higher steel prices globally for a range of industries including auto manufacturing and construction. The Nikkei newspaper reported earlier on Tuesday that Nippon Steel and Vale had a provisional agreement for $105 a tonne, but that negotiations would continue towards a final deal by the end of next month, to be applied retroactively to April 1. "If that's the case, it's excellent, even though the market was already expecting $100 to $110. This will strongly increase revenues," said Pedro Galdi, an analyst with SLW Corretora.

Big miners have been pushing for a big price hike to reflect a doubling in the spot iron ore price since September. Sumitomo Metal, Japan's No. 3 steelmaker, has also reached a tentative deal to pay 90 percent more for iron ore, another source with knowledge of its talks with Vale said. A spokesman for JFE Holdings, Japan's second-largest steelmaker, said it was still in negotiations and had not yet reached a deal. The world's top three miners, Vale and Anglo-Australians BHP Billiton and Rio Tinto are pushing to change the rigid benchmark system into a derivative-driven system similar to other global commodities such as oil.

Some steel mills have resisted the call to move towards spot pricing, particularly in Europe. But the acceptance by relatively conservative steel mills such as Nippon and Posco, shows the growing strength of that trend. "The chance of returning to an annual benchmark system for iron ore is very slim, at least for now, because of the tight market conditions," a Japanese steel industry source with knowledge of the talks said.

CONTRACT? WHAT CONTRACT? "The long-term contract worked for 90 years very well for both sides, for both the client and the miner," Vale CEO Roger Agnelli told reporters in Sao Paulo, without commenting on whether or not Vale had closed contracts with steelmakers. "I think that model that we are proposing and talking about with clients, of quarterly averages, is helpful for us to be able to complete our investment projects." Analysts say Chinese clients began buying on the spot market when prices fell below benchmark after the global financial crisis broke out but insisted miners honor the benchmark as spot prices soared toward the current level. "Last year when we thought we had a contract, most of our clients just looked at us and said

'Contract? What contract?'" Agnelli said. Vale has for months insisted that benchmark prices informally agreed upon last year no longer reflect the reality of supply and demand. Mills argue steel prices have not recovered sufficiently and demand is too weak to pass on to clients their increased costs of iron ore and coking coal. Vale shares were up 1.77 percent at 49.41 reais on the Sao Paulo stock exchange, while American Depository Shares in New York were up 3.93 percent to $32.00.

CHINA TALKS, CHINA RISK An acceptance of the aggressive price-hike by relatively conservative Asian steel mills suggests that price may become a baseline for purchases of iron ore by China. "We also anticipate that Chinese iron ore prices will settle at least as high, if not higher than other Asian players," said consulting group Steel Market Intelligence in a research note. "We continue to believe that China's main assertion, that as the largest buyer of iron ore they should be paying a lower price, is flawed." It added China will likely pay a premium for buying iron ore given the perceived political risks of doing business there.

A Shanghai court on Monday sentenced four Rio Tinto executives to prison terms of seven to 14 years on charges of accepting bribes and stealing commercial secrets, ending a saga that began in the middle of tense 2009 iron benchmark talks and led to those talks unraveling without a formal agreement. China's rapid economic growth, coupled with the financial crisis, upended the iron ore business by making Beijing the most powerful buyer -- letting its quasi-state steel giants and dozens of importers overturn established market protocol.

Mining giant BHP Billiton is changing the way it sells iron ore by setting prices quarterly instead of annually. Industry experts say this could anger Chinese steel mills, which have a voracious demand for the iron, and have been trying to negotiate discount prices. For years iron ore, which is the key ingredient in steel production, has been primarily sold through annual contracts.

Anglo-Australia mining company BHP Billiton, one of the world's largest iron miners, now wants to set prices every three months, a move seen by industry analysts as a way for the company to take advantage of spiraling demand. By setting prices quarterly, the company benefits if the spot market price suddenly soars. The spot price usually is far higher than the price for annual contracts and can rise or fall quickly. But the move may anger some of BHP's clients, including Chinese steel makers. Last year, Chinese companies tried to negotiate a sharp discount in the annual contract price, arguing that the size of their purchases merited a lower price. The major mining companies, however, refused.

Resource market analyst James Wilson thinks BHP's move will upset China's steel makers. "The Chinese are chasing the fixed price on an annualized basis," he said. "BHP has certainly been the champion of trying to change the system over the past few years and has basically adopted any new contract that has been signed is now signed on a, on a hybrid basis. Yes, certainly, it's certainly favoring the producers rather than the Chinese steel maker." There is speculation that international steel prices will rise sharply as a result of changes to the iron ore price structure. That would make many household appliances and cars more expensive.

BHP Billiton sells more than 100 million tons of iron ore every year to steel mills in Asia and Europe as well as buyers in Australia.The company's plan to introduce short-term pricing is the biggest change to the system in 40 years. Rising demand for iron and other resources helped Australia largely avoid the worst effects of the global economic slowdown over the past two years. Much of that demand came from China, which not only needs iron for goods it exports but also for its own rapidly expanding construction industry.

Mining industry leaders indicate there is little chance that Australia's exports to China will be affected by the conviction of four executives for an Australian mining company in Shanghai. The men, one Australian and three Chinese citizens employed by Rio Tinto, were convicted of bribery and commercial spying and this week sentenced to prison. The Australian government has criticized the handling of the case, because much of the trial was held in secret, and some China business analysts warn that it has alarmed many foreign businesses operating there.

Banks and brokers are gearing up to exploit the new iron ore pricing system by developing a multibillion-dollar derivatives market similar to the ones that exist for commodities such as oil, aluminium and coal. As the 40-year-old pricing system based on annual contracts is replaced with short-term deals linked to the spot market, analysts forecast that the iron ore swaps market will grow to $200bn by 2020 from $300m today. “All the ingredients are here for the market to take off,” said Andy Strickland, associate director at inter-dealer broker Icap. “The market for iron ore swaps could grow exponentially by a factor of 20 or 50 times its current size. The extreme price volatility will trigger interest from the consumers.”

And, as with the development of the derivatives markets in oil in the early 1980s and other commodities during the past 10 years, banks and brokers hope to benefit as a market develops that allows speculators to bet on the direction of iron ore prices. A derivatives market will also allow producers and consumers to hedge their positions more easily in the physical commodities market, minimising price risks. Eoghan Cunningham, chief executive of the globalCoal physical trading platform, which is expanding from coal to iron ore, said: “The new pricing provides the market with more flexibility and paves the way for people to take positions. Banks will certainly see this as a big opportunity for speculation and making money.”

As the importance of the spot physical market for iron ore grew, derivatives emerged in 2008, with Deutsche Bank and Credit Suisse launching iron ore swaps. Since then, other banks have joined in, including Morgan Stanley, the commodities heavyweight, and brokers such as London Dry Bulk, Freight Investor Services and Icap. Bankers and industry executives expect other banks such as Barclays Capital, Citigroup, Goldman Sachs and JPMorgan to be increasingly involved in the ore swaps market. Michael Gaylard, strategy director of Freight Investor Services in Singapore, said the market was “finally seeing a situation where the physical spot market and iron ore swaps are becoming an accepted means of doing business”.

Bankers said the pricing system was a significant development that could encourage more companies to hedge. In particular, junior iron ore miners were likely to hedge their output as a way to raise finance more easily, while some steelmakers could hedge their input costs. The moves, if they materialise, would be similar to those in the oil market, where oil companies, refineries and consumers such as airlines and big utilities hedge their exposure to volatile prices. “With a new market like this, there tends to come a point when more people use the market, creating more liquidity,” a senior commodities banker said. “This feeds on itself as other participants are then encouraged to use the market as well.”

European steel makers on Wednesday demanded an EU antitrust probe to check for monopoly abuse and cartel-type behavior by the three major iron ore suppliers Vale, BHP Billiton Ltd and Rio Tinto after price increases of more than 80 percent. European car makers and engineering companies also complained that higher costs for iron ore, steel's key ingredient, could do serious harm to their business and were not justified by higher demand from emerging economies China, India and Brazil.

Steel federation Eurofer, which represents ArcelorMittal SA, ThyssenKrupp AG and Corus Group PLC, said it has lodged a formal complaint with the European Commission after Vale and BHP Billiton struck deals with Asian steel mills that would increase iron ore prices by between 80 percent and 100 percent. The group said it saw "strong indications of illicit coordination of prices increases and pricing models and pressure on individual steel producers to accept these changes" that it believed could breach EU competition law. EU regulators can fine companies up to 10 percent of yearly global turnover if they find evidence that they are deliberately choking supply or hiking prices.

The European Commission has already acted on an earlier complaint from Eurofer about plans to combine the world's No. 2 and No. 3 iron ore miners, Rio Tinto and BHP Billiton. They are examining how the deal will affect global prices or supply for iron ore transported by sea. In a joint statement, Eurofer and engineering industry group Orgalime called on iron ore suppliers to keep to current contract conditions and offer fair price and fair access to raw materials that they say are crucial for manufacturing and the recovery of the global economy. If European access to iron ore were to be jeopardized, they are warning of "severe consequences for the whole value chain" that could affect millions of jobs.

They also claimed the price rises are unjustified because they are "not based on any demand fundamentals" and iron suppliers already enjoy profit margins of up to 50 percent per metric ton of iron ore. European car manufacturers represented by ACEA also complained of an "excessive and unpredictable pricing policy" by iron ore suppliers that could affect the competitiveness of European manufacturing by adding extra cost pressure. They said car makers need one metric ton of steel per car and need "broad access to raw materials at competitive circumstances."

What secrets are hidden in the Federal Reserve's trillion-dollar shadow? Economic recovery depends on confidence, and confidence requires knowledge. But Senators like Chris Dodd and Judd Gregg don't want us to have that knowledge. They don't even want it themselves. In Sen. Dodd's case, he's trying to give the Fed more authority (over consumer protection) even as he fights to keep its activities hidden. Fortunately, the final decision may not be up to him.

A judge's recent ruling in favor of two news organizations (Bloomberg and Fox) promised to shed light on $2 trillion in concealed Fed emergency loans to major financial firms. That's a start. But Sen. Dodd is still fighting efforts to have a full-scale audit of the Fed's other major bailout activities, including the $1.25 trillion program to buy mortgage-backed securities. That's been going at the rate of $10 billion per week - a massive program which ends this Wednesday. You could argue that giving $10 billion every week to the people that wrecked our economy is like giving Viagra to sex offenders. (Remember last week's "controversy" about that?) And that $10 billion per week goes to buy the worthless assets of bankers who enriched themselves on loans that ranged from predatory to merely incompetent.

Who's been able to avoid the consequences of their own bad business practices, thanks to the Fed? We don't know yet, because Sen. Dodd promised GOP Senator Gregg there would be no audit of the bailout. Which just goes to show: Scratch a bad policy idea these days and you're likely to find it was promoted under the guise of a false "bipartisanship." Outside the Senate bubble, however, many progressives are aligned with conservatives like Ron Paul on the need for an audit. That makes it one of the few truly bipartisan movements out there.

Why is an audit so important? For one thing, because the Fed is a democratically-created institution, formed by an act of Congress. While it has a certain degree of autonomy, the Fed (the "bank for bankers") is supposed to respond to the will of Congress - although it's had a habit of disregarding orders that don't please it, like the one Congress passed in 1994 to enact meaningful protections against predatory mortgage lending. That got a big yawn under both Democratic and Republican Administrations. It's not just Congress that needs to know. Shouldn't investors learn which financial institutions made bad decisions and required massive intervention? Doesn't concealing that information only serve to protect blundering CEOs?

That's exactly what Tim Geithner did when he was head of the New York Federal Reserve Bank. In what appears to be a direct violation of his bank's charter, he took junk loans off Lehman's hands and "warehoused" them. That illustrates another reason to shine a light into those dark corners: there may be more charter violations there. In a piece called Discount-Window Future Darkens After Court Move, the Wall Street Journal's Michael S. Derby writes of the Federal Reserve's fear that "more disclosure would drive away future borrowers, with institutions fearing public knowledge of their emergency loans would be a signal to markets of their weakness."

But isn't that exactly the point? By definition, doesn't any institution that ran itself into a ditch have a certain "weakness"? Sure, some may have been caught in the undertow created by their reckless colleagues. Let them make that case publicly. They'll get a receptive hearing. The hypocrisy's stunning when it comes to Judd Gregg and the other anti-audit right-wingers. "Free market" acolytes should have some understanding of the god they worship. Of the four requirements traditionally given for a "perfect market," the first is "perfect information." Concealing trillions of dollars in transactions is hardly the way to promote a well-functioning market.

Bernanke is somewhat open to the idea of an audit (although there would no doubt be some haggling over the details). He said this in Congressional testimony: ""... (W)e understand that the unusual nature of those facilities creates a special obligation to assure the Congress and the public of the integrity of their operation. Accordingly, we would welcome a review by the GAO of the Federal Reserve's management of all facilities created under emergency authorities." We can't know exactly what's hidden in the Federal Reserve's shadow until we have that audit but, based on the intransigence of certain politicians, here's an educated guess: an audit might well confirm that a lot of institutions really are too big to fail, and need to be broken up now.

Congressional oversight isn't just a privilege of power. It's also a responsibility. When it comes to the "discount window" program, the courts have put an end to the Judd/Gregg obstructionist clique. Now the rest of the Senate must vote to shine a light into the Fed's shadows, as the House has already done. We need to know the truth. Congress needs to audit the Fed.

Irish banks require an estimated €22 billion to cover losses from soured property loans and this total may rise by a further €10 billion depending on the extent of impaired loans at Anglo Irish Bank, the Dáil was told today. The true scale of the “black hole” left in the sector by toxic property debt was laid bare today as Nama confirmed the initial tranche of bad loans would be acquired at a discount of 47 per cent, substantially more than the Government’s initial estimate of 30 per cent.

Minister for Finance Brian Lenihan said the State would be providing €8.3 billion to Anglo Irish Bank this week alone, and that the bank may need a further €10 billion to cover its losses from bad property loans. Mr Lenihan acknowledged the banking system had engaged in “reckless property lending", and had "played fast and loose” with the economic interests of this country. He described the information that had emerged from the banking sector in the course of the Nama process as “truly shocking”.

In a statement earlier, the agency confirmed the first 1,200 loans, with a nominal value of €16 billion, had been acquired for €8.5 billion. It said the initial tranche of loans from Irish Nationwide Building Society (INBS) and EBS Building Society had been transferred yesterday. The agency said it would transfer the first batch of loans from Bank of Ireland on Friday, and expected to complete the acquisition of the first loans from the two remaining participating institutions - Allied Irish Banks and Anglo Irish Bank – by early next month. It said it expected to complete the transfer of the remaining loans from all five institutions by the end of the year and no later than end February next year, the deadline set by the European Union Commission.

The total amount of loans that will be acquired by the agency is anticipated to be in region €81 billion. Nama chairman Frank Daly insisted the agency was a "key element" in resolving the difficulties of the Irish banking sector. Mr Daly said in the last 24 hours Nama had transferred loans worth just under €1 billion from INBS and EBS. “So it is the first real concrete evidence of Nama being in operation and taking across loans. By the end of the week we will have taken something like another €2 billion from Bank of Ireland.” Describing the process as “thorough and painstaking”, Mr Daly said the price being paid for the loans was one that the Nama team "could stand over".

In a fundamental overhaul of the banking sector, the Financial Regulator today also announced new capital levels for banks covered under the Government’s guarantee scheme to ensure that they withstand future losses. Banks must now meet a core equity ratio of 8 per cent by the end of the year, the regulator said. In a statement to the Dáil, Mr Lenihan outlined the new capital requirements the banks will need to meet targets set by the regulator. Mr Lenihan confirmed the State would be immediately providing €8.3 billion to Anglo Irish Bank, and that the lender may require a further €10 billion.

AIB would need to raise €7.4 billion by the end of the year to meet the new regulatory requirements. The bank will immediately start selling its overseas assets in Poland, the US and Britain to help raise part of this, but the State will have to take a further stake in the bank, Mr Lenihan said. Bank of Ireland would require €2.66 billion by the end of the year to meet the new capital standards, some of which it plans to raise through private sources. Irish Nationwide will need €2.6 billion of new capital from the State, which would be paid over 10 to 15 years to reduce the cost to the State. EBS will require €875 million in new capital, €100 million of which will be provided by the State taking new shares giving it control of the society.

In his statement, the minister insisted that winding-up of Anglo Irish bank was not an option. Based on figures from Anglo and the Department of Finance, Mr Lenihan said shutting down its operation could run up a bill for the taxpayer anywhere from €60 billion to €100 billion. He said an immediate wind-up would be followed by a fire-sale of assets with an “unnecessary loss” of €30 billion and up front cash bills of €70 billion to meet the cost of deposits, bondholders and the liabilities due to commitments across Europe.

Mr Lenihan also vehemently rejected calls for a long-term wind-down insisting it was not in the taxpayers’ interests and would cost €60 billion - €30 billion losses from the sale of assets followed by a €30 billion bill to complete the shutdown. “Finding a long-term solution for Anglo Irish Bank is by far the biggest challenge in resolving the banking crisis. The sheer size of the bank means there are no easy or low-cost options,” he said. “Winding-up the bank is not and was never a viable option.” He went on: “I understand why many want us to close this bank. I understand the impulse to obliterate it from the system. “But I cannot, as Minister for Finance, countenance such a course of action.

The realisation of the costs involved and the wider disruption to the financial system would generate enormous instability for the State with unforeseeable but potentially long-lasting damage to the overall economy." The unavoidable reality is that the bank has incurred losses from its large-scale property lending and needs substantial further capital. Unpalatable as it is, only the taxpayer can provide that capital. “It is the least worst option.” Mr Lenihan warned, however, there were significant uncertainties over estimates that €10 billion is needed for future recapitalisation. At a press conference in Dublin earlier, financial regulator Matthew Elderfield said the banks are undergoing "major surgery via Nama". "Even after surgery, they will suffer losses in coming years. They need a transfusion now to speed their recovery and that of the economy," he said.

Central Bank governor Patrick Honohan: "The way I see it is that free of the most impaired part of their portfolio and strongly capitalised, Irish banks will be able to stand on their own feet and have both the ability and the incentive to refocus on providing the necessary financial services to support the recovery of the Irish economy." Sebastian Orsi of Merrion Stockbrokers said: "It's tough but hopefully decisive and final. We still have to see the banks achieve the capital increases that are required but at least we now know what the targets are." "It's a tough review of the capital requirements but it should give certainty over the amount of capital that's required and the ability of the banks to withstand any future losses," he said.

Ireland creates 'bad bank' to rescue stricken lenders and in effect nationalises second bank as it clears up after property crash

Ireland's taxpayers will hand over €8.5bn (£7.6bn) to buy the toxic loans of the country's crisis-ridden banks, it was announced today. The Irish state will also become the majority shareholder in the republic's largest bank, the Allied Irish Banks, as the Dublin government attempts to clear up the mess from years of reckless lending that has capsized the country's economy. This is the second major bank the government has in effect nationalised since the financial crisis began.

The republic's newly formed "bad bank" – called the National Asset Management Agency (NAMA) – has also demanded a 47% discount on the loans, which have a book value of €16bn. Most of them relate to the property market, which has halved in value in Ireland over the past two years. More than €3bn of loans relate to deals in Britain, where the property market has also been hit hard. NAMA will absorb €81bn of distressed property loans, aiming to clean up the books of troubled Irish lenders. The amount is about half the size of the Irish economy. The agency will now try to recover as much of the money as possible but the Irish taxpayer is still potentially on the hook for billions more because the banks will only absorb an extra €500m of losses. So, for example, if NAMA only retrieves €6bn for those loans, the programme will cost the taxpayer another €2bn.

The banks were also ordered to raise more capital to fund the expected losses they will incur after the sale of toxic loans to NAMA at such a discount. The Irish regulator said that Allied Irish Bank needed to raise €7.4bn of fresh capital to meet the new requirements, Bank of Ireland needed to find €2.66bn, and Anglo Irish Bank would require an additional €8.3bn. This will almost certainly mean the government taking a bigger stake in AIB with an injection of taxpayer funds. It could also be given money from the national pension reserve fund. Brian Lenihan, the finance minister, told the Irish parliament that the country was now "on a firm path to economic recovery".

Speaking in the Dáil, Lenihan also launched a blistering attack on senior bankers, who he said had created a "horrifying" situation for the Irish banking system. He said the banks' behaviour was "truly shocking … our worst fears have been surpassed. They played fast and loose with the economic interests of this country." The minister said the banks' bosses had made "appalling lending decisions that would cost the taxpayer dearly for years to come". The state would remain a minority shareholder in the Bank of Ireland but take a majority stake in the AIB, he said. The European commission would have to approve the latter measure.

The AIB would also have to sell off assets in Britain, the United States and Poland to meet some of the costs of recapitalisation. The Anglo Irish Bank – the favoured bank of property tycoons - will be given €5bn as part of the rescue package. But Lenihan warned that it may take a further €10bn from the taxpayer to keep the bank afloat in the long run. He also told the Dáil that it could take between five and seven years before Anglo Irish was able to leave the state's control and move into the private sector. He also announced a package of billions of euros to buy up the debts of the country's main building societies.

The details of the bailout for the banks are:

Bank of Ireland will receive €1.26bn.

Allied Irish will be handed €1.88bn.

Anglo Irish will get €5bn.

The Republic's two main building societies will obtain about €370m.

Despite the huge costs of the rescue plan, the governor of the Central Bank of Ireland, Patrick Honohan, insisted that the country could afford the massive injection of cash to the banks. He said: "After a period of great uncertainty, these actions and announcements create a secure platform on which confidence will be built. "While the costs that are today revealed are certainly significant, they are manageable and affordable for the Irish state. "They are certainly a necessary measure to put the banking crisis behind us and provide for a stronger economy."

North of the Irish border, an MP said that banks doing business in Northern Ireland that were rescued along with southern Irish taxpayers must protect assets in the province. Alasdair McDonnell, SDLP South Belfast MP, said: "There must be no attempt to sell off northern assets more quickly or at lower prices than in the south. "Hard-pressed Irish taxpayers are now rescuing the banks from the consequences of their greed and folly. In return, we must now insist that they go back to basic business, and that means keeping every fundamentally profitable company in business.

Q&A

What is the 'bad bank?'

The government-backed National Asset Management Agency (NAMA) will absorb €81bn (£73bn) of distressed property loans, aiming to clean up the books of troubled Irish lenders. The amount is about half the size of the Irish economy.

Lenders will receive government-backed bonds in exchange for their toxic loans, which they will be able to use as collateral to borrow from the European Central Bank – getting much-needed cash, and getting rid of their toxic assets.

What will be the first transaction?

NAMA will buy a first lot of loans with a book value of €16bn but they will pay €8.5bn for them, a "haircut" (or discount) of 47%, as the Irish property market has lost almost half its value of the past two years.

What will NAMA do with the loans?

The agency will try to recover as much as possible, chasing borrowers to pay back.

Are Irish taxpayers at risk of losing money?

Yes, if NAMA does not get the €8.5bn worth of loans (because people default or amid lower values than what NAMA estimated), the banks will absorb a first loss of €500m, and the state will take the rest. If NAMA only gets €6bn for those loans, the programme will cost €2bn to the taxpayer.

Has the government imposed new capital requirements on the banks?

Yes, to compensate for the expected losses that the banks will incur after the sale of toxic loans to NAMA at such a discount.The Irish regulator said that Allied Irish Banks needed to raise €7.4bn of fresh capital to meet the new requirements, while Bank of Ireland needed to find €2.66bn, and Anglo Irish Bank would require an additional €8.3bn.

How will the banks raise that money?

They will try to tap the financial markets but the government will have to increase its stake in some banks to facilitate the new requirements.

Do financial markets accept the Irish plans?

Yes. The "bond vigilantes", or activist bond market investors, want governments to carry out drastic budget cuts to reassure them that they'll get their money back and the bonds will have the highest possible credit rating. Left-of-centre governments such as Britain, Spain, Greece and Norway have challenged that view, saying they will prioritise economic growth over budget cuts, but they suffer from the market's punishment.The Irish government, which has carried out drastic cuts, has to pay 140 basis points above the rock-solid German bunds to raise money, substantially less than the 317 basis-points paid by Greece.

Does Britain have a 'bad bank' too?

Unlike the US and Ireland, where government agencies have bought toxic assets from banks to clean their books and re-ignite lending, the UK decided to insure those assets though a programme called the Asset Protection Scheme. In exchange for a multibillion-pound fee, the government has insured the assets, causing an "overhang" in the market as the assets did not get traded at a discount, or removed from the banks' books, critics say."

The Bank of Ireland laid bare the depth of its crisis today as it reported a fall of nearly €3 billion (£2.6 billion) into the red in the first nine months of its financial year, had written down the value of loans to customers by more than €4 billion and said it would need to raise €2.7 billion to shore up its balance sheet. While the level of writedowns in its business is thought to have peaked, Richie Boucher, its chief executive, admitted there is no let up from the ongoing crisis in the Irish economy.

The state of the Bank of Ireland's finances is revealed amid the latest bailout of the Irish banking sector with the Government committing to stand behind up to €20 billion of new funding needed across the industry to keep it afloat. That comes on top of the creation of the National Asset Management Agency, a so-called "bad bank" in which struggling finance houses can dump €16 billion of their most toxic lending. In a bid to keep Bank of Ireland in business, Mr Boucher said he believes a fundraiser of €2.7 billion "will be sufficient to meet its capital requirements." Bank of Ireland's interests in the UK include running the banking products and credit card services of the Post Office.

For the nine months to the end of December, the Bank of Ireland reported an underlying operating profit of €1.05 billion. That however was wiped out by €4.05 billion of impairment charges on loan assets, €2.23 billion of which is destined for the NAMA bad bank. The underlying pre-tax loss for the period came in at €2.97 billion. In a statement Mr Boucher said: "There was a further contraction in the level of economic activity across our core markets in Ireland and the UK and difficult economic conditions globally. "With highsight it is clear that the Bank's growth ambitions in previous years had been framed against an overly optimistic view of the outlook for the Irish economy and it was too exposed to the property sector and too reliant on wholesale funding."

Markets drove up Greece’s borrowing costs again on Tuesday, despite last week’s promise of a financial backstop from other European countries, indicating the country’s debt crisis was far from over. Greece tapped another 390 million euros ($524 million) from bond markets on Tuesday by reopening — or selling more of — an existing 20-year bond. But its success in raising money from bond sales was darkened by the continuing high interest rates markets were demanding to hold Greek debt.

The interest rate spread between Greek 10-year bonds and equivalent German issues — considered a benchmark of solidity — rose back to above 3.35 percentage points on Tuesday, about the same as before the rescue plan’s announcement last Thursday and up from the 3.06 percentage points on Monday. A wider spread means weaker confidence in a country’s debt as investors demand a higher risk premium to hold it. That means Greece is paying roughly twice in interest what Germany must to borrow, despite the promised backstop from the 16 countries that use the euro.

Athens hopes the rescue plan — in which the 16 euro zone countries promised loans together with financing from the International Monetary Fund to assist Greece if it were unable to borrow or pay its debts — will help restore market confidence and bring down the spreads. The European Central Bank also extended relaxed rules that keep downgraded Greek bonds eligible. But no money is being made available to Greece right now and any loans would require the approval of all the other euro zone countries. The Greek finance minister, George Papaconstantinou, has said he expects the spreads will narrow gradually.

If borrowing costs remain high, the savings from painful austerity measures that Greece announced a few weeks ago could be drained by paying high interest rates on debt. Monday’s successful bond issue “is another step forward for Greece, but the crisis is far from over,” said Ben May, European Economist at Capital Economics Ltd. Greece sold the 390 million euros by reopening a 5.9 percent bond that comes due on Oct. 22, 2022, the Public Debt Management Agency said Tuesday. The agency had said it had been seeking to raise up to 1 billion euros with Tuesday’s sale, which it said had a cutoff price of 99.05.

The sale came a day after Greece raised 5 billion euros with a seven-year bond issue, in a crucial first borrowing test after the euro zone unveiled a rescue last week to help Athens cope with its acute debt crisis. Monday’s bonds were sold with a coupon of 5.9 percent. The high yield comes before April and May deadlines to refinance about 20 billion euros in debt, with total borrowing needs at 54 billion euros this year.

The government spends billions of dollars more on it every year, and per person costs are increasing even faster. The results are mixed, but there's no slowing down.

No, it's not health care or social security. It's defense.

The White House has requested $708 billion for fiscal year 2011 and defense spending is scheduled to increase each year, even as wars in Iraq in Afghanistan deescalate.

Of course, bravely serving in the military or working under the Department of Defense isn't a handout, but it's another massive sector of the economy that's keeping tons of folks employed who might otherwise be home looking for work.

My Walk to Mt Kosciuszko is no longer a solitary affair: at last count, I will have a dozen companions for the entire distance, and another 16 joining me for at least one day.

One of those coming for the entire trip is the Commentary Editor from Business Spectator, Rob Burgess. Rob will report from and on the Walk on a daily basis, covering it both as a news story, and as the basis for a discussion of the wider issues facing business and economics in the uncharted terrain of the supposedly ‘post-GFC’ world.

The others joining me on the trek are doing so not just for the scenery, but because they too believe that Australia’s economic policy has become beholden to maintaining house prices at unsustainable levels. Despite government rhetoric (and some action) about improving home affordability, the First Home Vendors Boost did far more to make houses more unaffordable than the government’s minor actions in the opposite direction. The other walkers are joining me to bring attention to the absurdity of managing the Australian economy by making it impossible for people to afford houses in their own country.

But though The Walk will have a political protest at its core, it is not party partisan: our call here is “A Plague on Both Your Houses”. Whatever else might change if Tony replaces Kevin, one thing that won’t change is a sky-high house price policy, since both sides of politics in Canberra (not to mention the commercial Banks and their economists) have become convinced that the major reason the GFC occurred was that house prices fell.

This is true in the same sense that jumping off a cliff is painless—it’s hitting the ground at its bottom that hurts. The real cause of the GFC wasn’t falling house prices per se, but the mortgage debt that drove them higher as households took part in a speculative bubble. The rising debt level was, in effect, climbing the mountain in the first place: deleveraging was jumping off it.

The only way to prevent a financial crisis is not to climb the mountain in the first place: to stop debt being taken on for speculative reasons. But instead politicians the world over encouraged households to do precisely that, in the misguided belief that financial engineering was a road to wealth. Instead, it was the road to debt penury.

Once that debt has been accumulated, trying to stop house prices falling is like keeping Wily Coyote stationary in midair after he’s fallen off a cliff with an anvil attached to his legs: he’ll stay there for a moment, but after a while, it’s “Hello Terra Firma”.

House prices rose in America and the rest of the OECD because households took on bucketloads of mortgage debt, and they fell because households stopped taking on more debt. The fall in house prices was a symptom of households ending the leveraging game: it was coincident with the crisis, it made it worse because the collapse in house prices and the rise in insolvencies made banks insolvent, but the real problem was that households had got into too much debt.

So how does Australia keep house prices high? By encouraging households to get into yet more debt. The next chart shows what happened to the household debt ratios (both to disposable income and to GDP) before and after the First Home Vendors Boost.

The rise against GDP is far more dramatic than against household disposable income because other government policies—the stimulus package itself and the RBA’s 4% cut in interest rates—boosted disposable income dramatically last year (but even so, mortgage debt is now a higher proportion of household disposable income than before the GFC). The Boost-inspired house price bubble was financed by households adding another 6% of GDP to their already unprecedented debt burden, when prior to The Boost they were on track to reduce mortgage debt by about 3% of GDP in 2009.

We’ve avoided hitting the ground of deleveraging by climbing to a higher cliff.

First, let your greed overcome all regard for the stability of the global market, and overcome your aversion to illegal activities. Stay away from people like me, and fly under the radar, because I’d like to see you thrown in jail. Most Washington officials, regulators, and Wall Street managers are probably safe to hang around, especially if you cut them in for a piece of the action or give them vague promises of a future lucrative job.

Next, cultivate relationships—or plant someone—on as many as the gold exchanges as possible in London, New York, Chicago, Hong Kong, Sydney, and Dubai. Get to know key people at one or more of the bullion banks: JPMorgan Chase, UBS AG, ScotiaMocatta, Barclays Bank, and Deutsche Bank AG. Get to know as many mine producers as possible (China has been buying gold mines), and watch the sales of mines, particularly to China. Get to know all of the refiners.

Set up some new offshore corporations, subsidiaries of existing corporations, and a hedge fund or two of your own to engage in some gold trading. Get to know as many hedge fund buyers as possible, and encourage everyone to buy physical gold. Remove the gold from custodian banks, and stash it in a vault solely under the control of the hedge fund. Use your network of people with net worth of $1 billion or more to get them to buy gold, too. Then work on the “small” investors with only $100 million or more net worth. Keep the key decision making group as small as possible to make it harder for anyone in your group to try to back out.

Pump up the gold story. Get your friends to tell retail investors to buy some gold every month. Get your buddies in the financial business to offer exchange traded gold funds (ETFs) that claim to buy physical gold. This will sound safe to retail suckers investors, but in fact, the ETFs are very risky. This will serve your purpose when you are ready to start a panic. These particular ETFs will allow the “gold” to be commingled with the custodian’s gold, and the custodian can lease out the gold. Moreover, the “gold” custodian can give it to a sub custodian that the manager doesn’t know. The sub custodian can give it to yet another sub custodian unknown to the original custodian.

The manager will never audit the gold, and the gold is not “allocated” to a particular investor. Since this is an “exchange traded” gold fund, investors will probably assume the gold is regulated by the Commodities Futures Trading Commission (CFTC), but it isn’t. By the time investors wake up to the probability that there is very little actual gold backing their investment, your plan will be ready to execute.

Locate the naked shorts, the bullion dealers whose short positions are greater than their long positions. After you complete your plan, the naked shorts will have to pay whatever you can squeeze out of them to cover the contracts they have with you. Now you are ready to execute your plan.*

Step 1: Let everyone in the futures markets know you are buying gold, speculating in gold, and want to take physical delivery. It helps that China openly announced it wants to increase its gold reserves; the market isn’t looking too hard at you. At first, act like you’re naïve. Buy on margin and pyramid up by reinvesting your profits when you have them. This part is legal, but you don’t want to draw too much attention to yourself. Your buddies in the market will distract attention from you by buying gold and putting on straddles (selling the near months and buying in future months). No one will suspect collusion.

Step 2: Get the banks to let you finance your gold. They will lend you most of the value of your gold, especially if you do not argue about the interest rates they charge. Since they are borrowing from the Fed or another Central Bank at nearly zero, they consider the difference they get from you (backed by your gold) as gravy. As the price of gold rises, they will lend you more, and you can add to your gold position.

Be careful with the loans, though. In March, 1980, Paul Volcker was Chairman of the Federal Reserve. As the Hunts tried to corner the silver market, Volcker inadvertently ruined their plans. Volcker raised interest rates to fight inflation and issued a special credit restraint to banks admonishing banks not to provide financing for speculators in gold and silver. Borrowing costs rose, while silver prices dropped. The former billionaires were bankrupted by Volcker’s prudence. Fraud is not for sissies. But don’t worry too much. No one in Washington is really listening to Paul Volcker today. They just trot him out for a photo?op, and then dilute any “rules” he suggests to render them totally ineffective.

Step 3: Book up all of the space at gold refiners, so that no one else can do it. Buy as many gold mines as possible, and do not hedge (sell gold forward). Since the price of gold is going up, persuade other mines to keep as much of new production as possible off the market, while you execute your plan to push up prices. Keep the part about your attempt to manipulate gold prices a secret. You won’t be 100% successful with all the mines, but you don’t have to be, and very bit helps. Besides, if these other mines insist on hedging (by selling gold forward), your plan may drive them into bankruptcy, and then you can buy them cheap.

Step 4: Create credit derivatives contracts that give you the option to ask for your pay? off in gold. Make the reference credit the United States or the United Kingdom and create extra triggers like credit downgrades or other events that make it easier for you to demand payment in gold. The steps you use here to manipulate the gold market can be adapted to the credit derivatives market, so even if you can’t trigger the event, you can make the spreads move in your favor and demand collateral in gold. Hide the credit default swap contract from the eyes of the clearing exchanges by embedding them in a securitization, a credit?linked note, or a sovereign fund product. The suckers investors that invest in these products never read the documentation, so when you trigger the event, they won’t realize they are caught in a short squeeze—scrambling for your gold at the high prices you set—until it is too late.

Step 5: Pick the future month to make your big move. You will go long gold futures and demand physical delivery. Your buddies will all go long, too. Mix it up a little by buying some straddles to make it appear you are just a regular speculator, and throw everyone off the scent. Balance your straddle so it is relatively neutral, and the initial long position continues to apply pressure. When the long side of your straddle becomes due, demand physical delivery (this will be before your other long position) to keep up the pressure.

Step 6: Secretly and habitually start making some large early purchases in non?U.S. markets. That way, when the U.S. markets open, gold should follow the upward trend. Create chaos by doing as many as the following as possible in the shortest time possible. Move any remaining gold you have in trading depositories to private storage. Get some banks to issue research reports on how the bullion banks don’t have enough gold to cover their massive short positions, and talk about the tight gold supplies. Trigger some of those credit default swaps. Inform the suckers investors in non?allocated “paper” gold ETF’s just how stupid it is to give their money to a “manager” that doesn’t audit the gold, insure the gold, prevent leasing of the gold, allocate the gold, or otherwise prove the gold is backing the fund.

Step 7: The bullion banks and dealers that have over?hedged their physical gold with short positions will now be squeezed and have to make margin calls. You and all of your speculator friends will look bad, so now is the time to use a ruse. Offer to cancel some of your forward contracts in exchange for early delivery of gold. This will temporarily relieve the bullion dealers’ pain on their short positions, and give you control over even more of the gold supply.

Step 8: You and you friends have pinched off the gold supply and control most of the free gold supply having locked it up in your own vaults and warehouses. You are all long a lot of futures contracts, and you will all demand physical delivery. You now have the naked shorts exactly where you want them.

Step 9: Rely on bankruptcy and bailouts to get what you want. Normally, you would be afraid that you would never get paid, because your demands would bankrupt the naked shorts. But the naked shorts are likely to be unwary hedge funds or other sophisticated investors, and no one cares if you bankrupt them. Other naked shorts are likely to be the bullion banks, and they are all being bailed out by the Central Banks who will lend them what little gold they have left and then beg the IMF for whatever they have. In lieu of that, you can set a very high cash price and take cash. In the gold feeding frenzy you have created, you can gradually unload some of your physical gold. If you managed to bankrupt any gold mines, circle back and see if you can scoop them up for a song.

China is a wild card. If it is not part of your scheme and decides to lend its gold, it could dampen your profits or even upset your short squeeze. But China may not want to help out your victims. Why should they? If China buys enough gold mines and increases its reserves enough, it may be in its interest to befriend you. Your combined ownership will have made the futures markets irrelevant. Together you will not only have cornered the gold market, you will have cornered gold.

* The Hunt Brothers used a similar earlier strategy in an attempt to corner the silver market in 1979?80 as recounted by Stephen Fay in The Great Silver Bubble (Coronet, 1982).------------------

Janet Tavakoli is the president of Tavakoli Structured Finance, a Chicago-based consulting firm to financial institutions and institutional investors. Her book on the causes of the global financial meltdown (and solutions) is: Dear Mr. Buffett: What an Investor Learns 1,269 Miles from Wall Street (Wiley, 2009).